I’ve graphically illustrated the “best six months/ worst six months” strategy on this week’s S&P500 chart since the Great Recession began. The concept of this strategy is to reduce equity during the May 5th – October 27th period, then become fully invested for the other six months. Carrying that strategy a little further, seasonal experts Brooke Thackray and Don Vialoux note that certain sectors will tend to do better than others at different times of the year. For example, seasonal patterns typically suggest holding more defensive sectors such as utilities and bonds during the “worst six months” for stocks. High beta sectors like technology and consumer discretionary stocks tend to do well in the favorable six months.
Obviously the seasonal strategies are not guaranteed to work each and every year for either the broad markets or sector/asset class rotation. Further, the problem with the “worst six months” (May-end October) is not so much with the frequency of pullbacks during that period. The problem is the intensity of a pullback – if one does occur. The chart above highlights this phenomenon – note how the biggest part of the 2008 crash was during the unfavorable period for stocks. As you can see, most years were relatively flat to bearish in the “worst six months” period – with the exception of the 17.7% return in 2009. That of course was the beginning of the recent bull market, after the capitulation bottom in March 2009. So the reward for being in the market during the worst six months is usually not all that great – it’s often relatively low even when it’s positive. Contrast the favorable six months, which typically offered much more upside. I’ve marked the returns for each period, courtesy Thackray’s Investors Guide – you’ll notice the difference. Thus far, 2013 is turning out to be fairly typical in returns for the summer. Unless you believe that the market has lots of upside between now and October 26th, we might expect another relatively low “worst six months” period for the S&P 500.
The strategy’s worked over the long term too. Brooke Thackray’s investors guide illustrates that since 1950 to the spring of 2013, had you invested solely in the worst six months each year your portfolio would have experienced a net loss of about 34%. That’s because of years like 2008 (as seen on our chart), along with double-digit losses in 2001, 2002, and others. Contrast that to the favorable six months since 1950, where your money would have grown by over 100 times. That’s because of the relatively larger number of double-digit gains during the favorable months, and fewer double digit losses.
Patience is the key with this strategy. The best six months continues to offer investors an easy way to reduce potential risk while increasing potential returns over the long term. The seasonally favorable time to be invested in equities is almost upon us. Soon the time to become fully invested in anticipation of strong markets ahead will be here.